Wholesale energy market prices well above equivalent 2016 prices - and its only August

Prices for Winter-17 NBP gas are now well above 45 p/th and heading towards the psychologically important 50 p/th level. Prices for the front month gas contract (Sep-17) are at 41.77 p/th, 12% above the equivalent contract this time last year, while the corresponding electricity contract is up over 20%.

Gas and Power

In the last few weeks, perhaps with one eye on the risks ahead for the winter period, UK gas and electricity wholesale market prices have started trending upwards after breaking out of fairly tight trading channels established in May.

Prices for Winter-17 NBP gas are now well above 45 p/th and heading towards the psychologically important 50 p/th level, and we are only in August. Prices for the front month contract (Sep-17) are at 41.77 p/th, 12% above the equivalent contract this time last year.

The situation with electricity prices is in fact much worse, possibly exacerbated further by a pound which after gaining back post-referendum ground throughout much of the first half of the year, is now threatening to retreat back under €1.10, a level not seen since the post crisis years in 2009-10. Because the UK is importing energy across all four of its interconnectors, the impact of a weaker pound is most felt in electricity. In gas, the weaker pound is having less of an impact as the UK finds itself in the unique position of having to inject summer gas into storage facilities in the Continent rather than its traditional Centrica Rough storage facility, now closed for operations*. These injections are enabled by exporting gas via the Zeebrugge pipeline. Though Norwegian imports into the UK are relatively strong at the moment, partly to support Zeebrugge pipeline injections; net imports, and the resulting impact of a weaker pound, are much less of a factor than in past summer injection seasons. The price for UK baseload electricity for W-17 stands at £47.70/MWh, with the front month now at £47.59/MWh – well over 20% above the price for Sep-16 this time last year.

Coal and Oil

Gas and electricity supply fundamentals themselves though are not the only factors influencing end consumer bills. Current trends in underlying hard commodity oil and coal prices are not providing much relief either. API2 coal prices have sped back above $80/tonne – an increase of more than $10/tonne from lows in May. This may not have a huge impact yet, given that the UK is running very little coal generation through the summer months (see latest fossil fuel generation here). Global thermal coal prices in September should also start to come off, as Chinese cooling demand eases, but then of course we will have the European winter heating season just around the corner and a ramp up in coal plant generation. Coupled with coal prices, and somewhat surprisingly given the summer season, EUAs have been rallying from mid-July, recently rising 2% in one day on strong UK auction results. Carbon prices have trended upwards recently particularly on the strength of the euro, widening the German dark spreads (cost difference between coal purchased in dollars and the equivalent sale of power in euros).

In crude oil itself, rebalancing has been slow, and price-responsive US rigs are giving OPEC a headache, with shale production now not just being consumed domestically, but exported overseas (particularly to China). This said, there have been some significant drawdowns in US crude oil stocks in the last few weeks. A run down on crude stocks is normal in the summer, but the actual level of weekly reductions has on several occasions taken the market by surprise. Additionally, though US shale is now weaved into the fabric of US oil policy and innovation, the US still imports 35-50% of its oil demand. Regional policies look very different (California imports OPEC crude as Canadian oil is not clean and light enough) while some US infrastructure and refineries are only able to process the heavier crude supplies from Canada, Venezuela and Mexico. Crude oil’s rebound has meant Brent prices have now gone from close to $45/bbl at the end of June to close to $53/bbl last week and have certainly contributed to the strength in UK gas and electricity prices since the middle of July.

Non-commodity / Third Party Costs

As always, wholesale market prices are only half the picture (or less as we can see here). Not least in the UK, but throughout the globe, the cost of funding innovation in renewables and grids is likely to continue to increase for the next 10 years and possibly longer. France’s lead in banning new sales of petrol and diesel cars from 2040 and the associated transformational electrification of the transport sector will also feed through to additional price increases. Commercialization of large scale batteries may eventually iron out steep increases - certainly Tesla’s announcement/boast of building a 100 MW lithium-ion battery in Australia is a big landmark, but the reality today is that non-commodity charges edge up pretty much every quarter as government's try to juggle the trilemma of emissions reduction, energy efficiency/demand reduction and security of supply.

In terms of specifics, a time-of-use charge redistribution next year (April 2018) means that UK profiled transmission (Triad in this case) and distribution (DUoS) costs may assume higher costs. Other notable recent changes to non-commodity charges will see an average increase of £1.74/MWh spread across FiT, RO and CFDs) from April next year to support energy exemption for large industries (part of the Government Industrial Strategy). Inflation and increased renewable capacity mean RO itself will also increase above £20/MWh from April 2018, though there may be some cost relief from the push back of some large scale renewable projects which had been expected to generate earlier. From April 2019, consumers can expect to see a hike in the climate change levy (CCL) come into effect for electricity supply – in fact a 45% increase from 0.583 p/kWh to 0.847 p/kWh.